The effects of military action on Estonian companies

The Estonian Chamber of Commerce and Industry appealed to the Estonian Government, the Ministry of Economic Affairs and Communications and the Ministry of Finance regarding the effects of military action on Estonian companies. The Chamber of Commerce gave a brief overview and made several proposals to help mitigate or prevent the negative effects of military action. The concerns of the companies are presented below.

The problem of natural gas
Estonia is currently highly dependent on gas imports from Russia, and there is a risk that if Russian gas imports are suspended for any reason, Estonia will likely have to impose restrictions on natural gas consumption after a certain period of time.

The Chamber of Commerce considers it urgent to establish in cooperation with Latvia and Finland a regional liquefied natural gas terminal in Estonia or in our immediate vicinity. The Estonian state should work closely with the private sector on this issue and ensure that no bureaucratic obstacles arise during the construction of the terminal, and that the entire process could be completed as soon as possible. In addition, the state should be prepared for the fact that the private sector may need direct or indirect state support for the construction of the LNG terminal.

Problems and possible solutions related to public procurement (construction works and long-term contracts)
Military activity in Ukraine has significantly increased the prices of construction materials and has made it difficult, in particular, to obtain construction materials that were previously imported in large quantities from Russia, Belarus or Ukraine. According to today's information, the direct increase in the price of construction works through these price increases is 15-20%, in a situation where the operating profit margins of the main construction contracts are 2-3%. For the above reasons, a situation may soon arise where a large part of the construction work commissioned through public procurement stops within 1-2 months, because the construction companies cannot bear the price increase to such an extent. In addition, it will not be possible to carry out all the construction work within the periods previously agreed in the contract. Many projects also involve the use of subsidies, where there is a risk that the subsidies will be recouped if the project is not completed by a certain deadline.

Proposals of the Chamber of Commerce:

• It is sensible to compensate for the unforeseen price increases caused by the war in Ukraine through indexation. Whenever possible, indexation should be applied retroactively from the beginning of March. In building construction, this could be done through the Construction Price Index (EHI), adjusting the monthly deeds of performed works according to the cumulative change in EHI compared to February 2022. In road construction in case of works performed for the Transport Agency, the price of bitumen (the main cost factor for asphalt) is indexed, but it would also be necessary to cover the additional costs of some basic materials and mechanisms. In addition to construction works, it may be necessary to apply indexation to duration contracts awarded through public procurement, such as waste management, road maintenance or passenger transport. For these contracts, indexation could take place, for example, on the basis of the change in the consumer price index. Therefore, clear instructions should be provided at least at the level of Estonian Government, to allow the use of the index in price adjustment in procurement contracts. If necessary, the Public Procurement Act should be amended as a matter of urgency.
• If the works contracts concluded before the start of the war in Ukraine cannot be completed in time due to the war in Ukraine, the contracting authority should extend the time for completion of the work. In addition, sanctions should be avoided if the construction company is unable to carry out the construction work within the time agreed in the contract due to the war in Ukraine. The Estonian Government should issue guidelines for contracting authorities.
• Measures should be taken to provide construction companies with additional working capital and to mitigate the risks of price increases. For this purpose, the contracting authority's payment deadlines should be reduced to 14 days from the date of the acceptance of the deeds of performed works, not from the date of invoicing, and the review of the deeds must be carried out within 5 working days. Advance payments for ordering materials in public procurement contracts should also be allowed, and guarantees of the Enterprise and Innovation Foundation should be considered to ensure these advances. Reductions in performance guarantees should also be considered.
• Proposals for new construction contracts procurements. Contracts for the construction of buildings should be linked to a construction price index, where the base index is the month in which the offer was submitted. The index should be adjusted on a monthly basis. Contracts with a maturity of less than 6 months could not be indexed. In road construction, a +/- compensation mechanism should be used for price changes in key components, similar to compensation for bitumen price changes. Performance guarantees should be reduced from 10% to 5%. In the Transport Agency's contracts, the guarantees for the warranty period should be reduced from 5% to 3% (valid for 5 years). All guarantees provided would be calculated net of VAT.
• In the cooling phase of the economy and the postponement of private equity investment decisions, the public sector should continue its planned investments in the current financial volume. In order to spread the price risk, Estonian Government should provide contracting authorities with a code of conduct as soon as possible.

The Chamber also drew the government's attention to other military-related impacts. For many sectors (e.g. construction, wood and related industries, machinery and metal industry, agriculture, transit companies, chemical industry) the impact is likely to be very significant. We see a greater impact on companies and the economy in the loss of opportunities to import important raw materials from the war zone. To mitigate this negative impact, public structures could support companies in finding new potential supply channels and, in addition, companies would need support measures to transform supply chains.

A temporary and limited increase in felling volumes would help to ensure the availability of timber as a local resource. The decrease in exports to the war zone has a somewhat smaller effect on companies. Military activity has reduced business confidence, which has led to a number of postponements. Companies also face additional difficulties due to rapid price increases, including rising energy prices, which cannot always be immediately transferred to contractual partners. Companies have also reported concerns about foreign labour, such as the inability to extend short-term employment of seasonal workers and, even in rare cases, the hiring of Russian and Belarusian workers with specific skills. In addition, companies may experience liquidity problems for the above reasons. This may be the case, for example, when large advance payments have to be made to new suppliers. Therefore, it is reasonable for the state to provide additional support measures to support the liquidity of companies.